Monday, November 05, 2012

Supreme Court Justices Note Materiality as Common to Class in Oral Arguments in Case Involving Proving of Materiality at Class Certification Stage

At oral argument in a case reviewing a Ninth Circuit panel ruling that an investor need not prove materiality to use the fraud-on-the-market presumption of reliance at the class certification stage, US Supreme Court Justices noted the commonality of the materiality issue to all putative class members. Justice Ginsburg noted that if there is an alleged misstatement, it is then material to everybody in the class. Justice Breyer added that if there is no materiality there is no class and there is no case. The issue before the Court is whether a plaintiff-investor in a securities fraud class action seeking to establish reliance through the fraud-on-the-market presumption has to prove materiality to obtain class certification. Amgen, Inc. v. Connecticut Retirement Plans and Trust Funds, Dkt. No. 11-1085.

Justice Kagan explained that the Court’s recent decision in Walmart teaches that the question is a question of coherence; it is a question of whether the class wins or loses together. There is class cohesion as to materiality, said Justice Kagan, because people win or lose on materiality together. If it's material, she noted, it's material as to everybody. If it's not material it's not material as to everybody. The Justice further explained that it is just a function of the fact that materiality, as the Court has repeatedly said, is an objective test. It doesn't have anything to do with whether a particular person finds it material.

Noting that the Court’s earlier opinion in Basic, Inc. v. Levinson lists materiality as a common question, Justice Ginsburg did not understand why this isn't just a clear case of a question common to the class; that is, the question of materiality. The materiality of the misrepresentation, if any, is listed as a common question, and that made perfect sense to the Justice.

Chief Justice Roberts observed that at certification you just assume that materiality, you don't have to show it. If it's always a common question, he added, you assume it in trying to weigh whether or not common issues predominate or not.

Justice Scalia noted a policy reason for deciding materiality earlier, namely the enormous pressure to settle once the class is certified. In most cases, that's the end of the lawsuit, he said. One way of certifying the class is to show it's an efficient market and you can presume that everybody in the class relied on the market. But that's only true  if the statement was material to the market. If it was immaterial to the market, that isn't true. And you should not proceed any further, and you should not begin this class action which, in most cases, is simply the preliminary to a settlement. There is a good reason for deciding it sooner, said Justice Scalia.

David Frederick, representing the plaintiff-investor, here the respondent, noted that Justice Scalia’s reasoning would consign district court judges to having many trials on the merits because of the fact that materiality is such a highly contextual inquiry. It is not for the Court to impose policy judgments about what additional requirements ought to be put on Rule 23(b)(3), he noted. Congress made that judgment in the Private Securities Litigation Reform Act of 1995, where it addressed scienter by imposing a heightened pleading requirement and loss causation, but, while asked to address materiality and reliance, chose not to.

Melissa Arbus Sherry, Assistant US Solicitor General, said that there is some confusion because materiality in a fraud-on-the-market case serves two purposes: It is a predicate to the fraud-on-the-market theory, she noted, but it is also an independent, separate element. The petitioner-company would have the Court isolate the two inquiries when they are really the same question. The fraud-on-the-market theory is a substantive theory, she continued, not a procedural doctrine. One of the practical consequences of the theory is that it allows classes to be certified, but it is a means of proving reliance in an impersonal market in which investors trade today.

What the Court did in Basic was adapt the direct reliance concept which envisioned face-to-face transactions to the impersonal market, continued the Assistant Solicitor General.  What is involved in the instant case is not whether a fraud-on-the-market can be proven, she posited, but whether common issues predominate over individual issues. The petitioner failed to point to any individual issues that would come into play in a case where materiality is not able to be shown. None would, she said, because materiality would kill the case for all.

Justice Scalia said that materiality is a common issue and that reliance is only a common issue if you accept the fraud-on-the-market theory, which he sees as a problem because you are using the one, which is a common issue, to leapfrog into the second, to make the efficiency of the market reasoning something that it is not. Ms. Sherry emphasized that the two really do collapse into one. Once you've proven that the market is efficient, and once you've proven that the statements are public, she noted, you are asking the same question. You can call it reliance or you can call it materiality.

Or, to put it differently, said Justice Scalia, an efficient market is a market that takes account of material factors. Taking a minor quibble on that, Ms. Sherry said that the market takes account of all public information, but it only moves based on material information.

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